Saturday, July 26, 2008

Cato Split On Inflation

There seems to be great disagreement over at the Cato Institute whether or not inflation is a problem. One day, we can see Alan Reynolds declare that inflation is not a problem. A few days later, Steve Hanke declares that inflation is a problem.

This is in some ways similar to the debate within the Mises Institute whether inflation is a problem, where I and some others, including Antony Mueller and (sometimes) Bob Murphy, do believe that inflation is a problem, while Frank Shostak and his follower (as well as Gary North) believes that deflation is the problem.

5 Comments:

I took notice of the same issue. Albeit, I believe Cato rarely sees any problems with monetary inflation because it has slowly grown to fully accept a central bank; it's shocking that the current Chairman and former Chairman of the Federal Reserve were invited to give speeches how they “manage” the economy. On the other hand, the Mises Institute is disagreeing over the statistics produced by the government. I personally favor Rothbard's view (I cannot remember which book I read it) that measuring bank credit expansion is exceedingly difficult as the finance industry constantly innovates new methods of expanding bank credit, and thus avoids even the Federal Reserve's regulations; Fannie/Freddie have their own regulator allowing them to leverage ~60 to 1, Bear Stearns had no regulator and was leverage ~30 to 1. In contrast, the typical US bank is leverage 9 to 1. Consequently, Gary North, who follows the government’s statistics, sees deflation and jumps in vindication when the gold price drops. Others rely on commodities. I personally rely on both, and currently give great weight to the Federal Reserve’s holdings of treasuries as is monetizes mortgages – once depleted they must print money.

There's a fella on Youtube who goes by the name 'Mr. Fed' that postulates interest rates will rise the very moment the treasury securities market is threatened. This seems to make sense, however, there must be a point where the treasury market is lost, or bursts, and hyperinflation ensues.

If we have deflation why aren't interest rates going up? Is the TAF making it seem that credit is available without really creating any?

I presented a graph and some history to show that headline CPI inflation and ex-energy inflation rise at the same pace over time. That is because the headline rate is often driven both above and below the ex-energy CPI. When that happens, the headline rate is misleading about where inflation is headed. It misleads in both directions.

With ex-energy CPI stubbornly below 3% for at least 6 years, the only way the year-to-year CPI could remain at 5% over the next 12 months would be for oil prices to double again. That is math, not opinion.

Of course inflation is a serious problem, even at 2.5-3%. And of course the past increases in oil prices made oil importing countries poorer.

I simply showed that CPI is not on a 5% trend in the U.S., much less trending higher. The ex-energy CPI predicts the headline rate much better than the headline rate predicts itself. At least three Fed studies confirm that.

Stefan, Shostak and North say that the FED is not inflating at the moment. Simply because they follow M1 or similar. You and others disagree and say we have massive inflation from the FED.

They are not saying that deflation will kick in in the economy, as this is impossible as long the Federal Reserve system and gullible politician exists. They say that FED will inflate when they run out of Treasuries and interest rates jump.

Having said that, we now have a credit crunch as a result of the fractional reserve banking and enormous leverage. And Shostak/North also claim that the FED is not inflating (yet) to deal with this crunch.

So we have deflationary impacts in asset prices now as the deleveraging takes place (as explained by Austrian School).

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